Smart borrowers help build a better system

Mark Bouris

IN A week in which the ''people's choice'' become re-elected as the President of the US, democracy was also in the news in Australia. But rather than being politically driven, our headlines were focused on the mortgage market.

Mortgages and democracy don't sound as though they belong in the same sentence, but they are strangely related - and here's why.

In this country, the mortgage market is biased. Rather than offering the same rates and discounts to every Australian, the banks have a funny habit of picking and choosing who gets what.

Let's look at the numbers: the big four banks' standard variable-rate mortgages have an average interest rate of 6.62 per cent, which means they are adding about 3.37 per cent "margin" on to the official cash rate of 3.25 per cent.

Yet there are many other lenders outside of the big four that offer much lower rates than that. For example, mortgages, that are 5.5 per cent, and which return a 2.25 per cent margin on the cash rate. So how is it that there is such a big spread, and how do the big banks get away with pulling in a big margin when smaller lenders are happy to forgo the profits in the best interest of their customers? The answer lies in the difference between a risk premium and a customer discount.

The banks are very clever and they look at lending in a way that is both strategic and profitable. What they do is place the higher risk premium on all of their standard variable-rate loans: they treat us all as if we are high risk, which pushes their rates to the average of 6.62 per cent, a margin about 3.37 per cent over the cash rate.

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Then the banks offer "professional packages" or "pro packs" to customers they perceive will use more services with the bank. So they drop the mortgage rate from 6.62 per cent to 5.9 per cent on average for their high net-worth customers who borrow bigger amounts and will be more likely to take up insurance products, credit cards, savings accounts for their kids, and so forth.

Proof that this works can be seen in the fact that all the big banks do it.

But I think there should be a fairer, more democratic way. I think that the mortgage discount should be democratised to give everyone a fair go, so that rather than customers waiting to be selected for a lower rate, everyone can have the lower rate.

This is part of a broader philosophy that I've been pursuing since starting my business. That philosophy is this: only when the consumer is treated as an important and informed part of the banking system will we have a truly "stable" system.

Now I'm not arguing that the current system is unstable.

However, it has become obvious - especially since the government interventions in the GFC - that Canberra's "four pillars" attitude to financial stability is to have large, secure banks and strong regulators.

I don't disagree with emphasising a few strong banks and strong regulators, so long as we understand it as a limited vision.

However, in the four-pillars approach there is no room for informed consumers to have real choice. And you need informed participants with choice before you can claim to have a competitive market.

An informed consumer knows how to take a home loan that is the best for her circumstances and knows how to pay it off faster than the bank wants her to. Informed consumers know what a good deal looks like but, more importantly, they are comfortable with exercising that better option.

Which leads to my second point: choice. The benefits of competition become apparent only when there is real choice upon which consumers feel they can act.

I believe that lenders should be stepping up in this economic environment and creating real choice. Did you know that the big four banks account for 90 per cent of all new mortgages? In terms of all mortgages, Commonwealth Bank alone has 45 per cent.

I worked to offer choice when I ran Wizard in the 1990s and 2000s, and, in those days, the borrowers responded. These days, there is less consumer enthusiasm to leave the big banks.

Non-bank lenders can disrupt the mortgage market with a discounted interest rate, but the borrowers must have the confidence to do what's best for their own interests. Action has to come from both sides.

Right now we have a way to go to get Australians back to full confidence, but it takes both parties to make something happen. I'm ready, are you?